Real Wage

The real wage measures the purchasing power of a worker's money wage after adjusting for changes in the general price level. It shows how many goods and services the wage can buy, unlike the nominal wage, which is expressed in current money terms.

Measurement

If the price index is expressed relative to a base period, the real wage is calculated as nominal wage divided by the price index. When the index has a base value of 100, a real wage index may be written as nominal wage index divided by price index, multiplied by 100.

• A consumer price index relevant to workers is generally more suitable than a broad output price index because it better reflects their consumption costs.
• Real-wage growth is approximately nominal-wage growth minus inflation, although the exact calculation uses the ratio of the two indices.

Interpretation

A real wage rises when money wages increase faster than prices, indicating greater purchasing power. It falls when prices rise faster than money wages, even if workers receive a higher nominal wage.

• The measured real wage depends on the chosen price index, base period and consumption basket.
• It is an average purchasing-power measure and may not reflect differences in household consumption patterns, locations or access to non-wage benefits.

Link with employment

The real wage is the labour cost relevant to firms and the consumption reward relevant to workers. Other things remaining equal, a real wage above the level supported by labour productivity and demand can reduce labour demanded, but unemployment also depends on aggregate demand, technology, skills, labour-market institutions and structural change.

• Nominal-wage rigidity can cause inflation or deflation to change real wages even when money wages remain unchanged.
• Productivity growth can support higher real wages without necessarily reducing employment.